Perilous Times
Irish bonds sink as Europe's debt fears grow
By GABRIELE STEINHAUSER and SHAWN POGATCHNIK
The Associated Press
Wednesday, November 10, 2010; 2:07 PM
DUBLIN -- Anxiety over heavy government debts in Europe flared up again
Wednesday, as investors questioned whether countries like Ireland,
Greece or Portugal can cut their budget deficits without choking off
desperately needed economic growth.
Markets were increasingly betting that Ireland might be next in line
for a massive financial bailout from its partners in the euro currency,
after Greece's euro110 billion rescue from the brink of bankruptcy in
May.
The interest rate, or yield, on Ireland's 10-year bonds jumped above 8
percent for the first time since the euro was introduced in 1999,
reaching 8.64 percent in afternoon trading. Portugal managed to raise
euro1.25 billion ($1.74 billion) in 6- and 10-year bonds, but at
significantly higher interest costs than in September and August.
The fall in Irish bonds was accompanied by an announcement from
London-based LCH.Clearnet Group, the world's second-largest bond
clearing house, that it is significantly increasing the cash deposits
it requires from traders dealing in those bonds.
The concerns over Irish debt rise comes as European Commissioner Olli
Rehn visited Dublin in an effort to convince opposition lawmakers to
support a further euro15 billion in painful government spending cuts.
As the commissioner for economic and monetary affairs, Rehn is in
charge of making sure that euro zone nation's debts and deficits aren't
spiraling out of control. Together with eurozone governments, he would
also have to sign off on an Irish request to get money from Europe's
euro750 billion emergency fund - a possibility investors think is
increasingly likely.
But current market concerns go beyond governments' immediate ability to
slash their budget deficit. More and more analysts are wondering how
countries like Ireland and Portugal can get their economies growing
fast enough to pay off their debts.
"The focus is now shifting from fiscal consolidation towards economic
growth," said Carsten Brzeski, chief economist for ING in Brussels.
Europe's highly indebted countries find themselves in a downward spiral
of budget cuts and economic stagnation.
Ireland's debt is expected to reach 98.6 percent of gross domestic
product this year, while Portugal will face a debt pile of 83.3 percent
of economic output. Greece's debt level depends of the revised figures
for its 2009 deficit - which are due to be released next week - but
most economists expect the country's debt to stand at about 120 percent
of GDP by year-end.
To keep their debts from surging further, governments are slashing
spending, laying off public sector workers or raising taxes. Yet those
actions in turn are likely to dampen economic growth.
A stagnating or shrinking economy reduces tax receipts and makes it
almost impossible for governments to produce the substantial budget
surpluses needed to chip away at their debt - perfecting the vicious
circle. "It's very hard to get out of there," said Brzeski.
Ireland's GDP already fell 1.2 percent in the second quarter, Greece's
economy shrank by 1.8 percent, while Portugal hobbled along with 0.3
percent growth. The European Union statistics agency's first estimate
of third-quarter GDP this Friday may be a harbinger of more pain.
A decision by EU governments last month to create a mechanism that
would force private investors to bear some of the pain the next time a
eurozone government runs out of money is creating more market jitters.
Rehn's team at the European Commission is supposed to come up with a
plan for how such a mechanism would work by December. But for the
moment, there is "complete uncertainty over what the mechanism will
look like," said Daniel Gros, Director of the Brussels-based Centre for
European Policy.
Investors are worried about losing part of their money in the case of a
sovereign default, even though current proposals from several
economists would only allow for an orderly default on debts issued once
the mechanism is in place - most likely not before 2013.
In that case, "it will not be possible to involve private creditors
until 2025," given the maturity of many bonds, said Gros. "That seems
to be difficult to swallow for some" countries.
Requesting money from the European stability fund would only buy
governments more time - and somewhat lower funding costs. But it
wouldn't reduce their overall debt, putting them in a precarious
situation when the facility expires in 2013.
Irish Prime Minister Brian Cowen insists his country has enough cash on
hand to fund the government budget through June 2011.
But if yields remain at their current levels until then, he might have
no choice but to ask for help from the European stability fund - a
process that is likely to take up to six weeks.
What will happen to Irish, Portuguese and Greek debt once emergency
funding runs out on June 30, 2013, remains up in the air. Even if a
European crisis resolution mechanism would allow for an orderly default
on new bonds, uncertainty over how to deal with the debts will likely
rattle markets for some time.
"The question is what then happens in reality," said Gros. "Everything
is now possible."
(This version CORRECTS New version. Corrects time element, paragraph 1.
Adds analyst comment, background. This story is part of AP's general
news and financial services.)